Ideas and economic policy

Accounting for less-than-perfect policy

OFTEN it happens that the ideal technocratic solution to an urgent economic problem of national scope is incompatible with the beliefs or incentives of policymakers. A small cadre of economists specialise in understanding how the incentives of politicians and bureaucrats affect economic policy and performance, and they often have enlightening things to say about the gap between ideal and politically feasible policy. Most economists, however, do not.

The toy worlds of economic models—even the most sophisticated—rarely account for politics, and almost never account for ideology. Consequently, most economists have nothing especially useful to say about the failure of governments to implement the best blackboard solution. It doesn't have to be this way. For decades Douglass North, a Nobel-laureate economic historian, has been harping on the importance of integrating into economic explanations the beliefs or "mental models" that account for the way culturally-embedded individuals mentally represent and order their choices. In his 1993 Nobel lecture, Mr North said:

Belief structures get transformed into societal and economic structures by institutions—both formal rules and informal norms of behavior. The relationship between mental models and institutions is an intimate one. Mental models are the internal representations that individual cognitive systems create to interpret the environment; institutions are the external (to the mind) mechanisms individuals create to structure and order the environment

There is no guarantee that the beliefs and institutions that evolve through time will produce economic growth.

Indeed, as Mr North makes plain, growth is the great exception to the historical rule. It's only a slight exaggeration to say that, to a first approximation, human beliefs and institutions have never produced economic growth.

I bring all this up because economists lately seem to be flailing around a great deal in search of an explanation for the failure of Congress and/or the Fed to implement the policies their models prescribe. Watching economists concoct political explanations is by turns painful and amusing in much the same way watching ballet dancers try to sing opera is painful and amusing. Few of them have any relevant training, most of them do it terribly, but a handful seem to have a touch of delightful talent. Judging from his column last week, Paul Krugman should stick to dancing.

Mr Krugman argues that the American political system is delivering sub-optimal economic policy because of increasing partisan polarisation. Increasing partisan polarisation, he says, has been driven by income inequality:

For the past century, political polarization has closely tracked income inequality, and there's every reason to believe that the relationship is causal. Specifically, money buys power, and the increasing wealth of a tiny minority has effectively bought the allegiance of one of our two major political parties, in the process destroying any prospect for cooperation.

This is just silly. "Money buys power" is in the same neighbourhood as "Jews run the media" both in terms of causal specificity and explanatory power. Anyway, the explanation doesn't begin to work. If it's actually possible for a tiny minority to effectively buy the allegiance of one of the two major parties, and I doubt it is, then it was possible well before the top 1% began to pull away from the rest of the income distribution. It's not as though extremely rich Americans in 1970 didn't have the wherewithal to effectively curry political favour. In any case, the super-rich are not of one mind politically. Warren Buffett and the brothers Koch don't exactly see eye to eye. I'd like Mr Krugman to identify what he takes to be the critical threshold of high inequality, and to offer some evidence that a significant political shift occurred when the threshold was met.

But all this is immaterial next to the fact that there is a vastly superior explanation for increasing partisan polarisation. Lyndon Johnson's support of the Civil Rights Act fomented an exodus of white, southern conservatives from the Democratic Party to the GOP, and the dust has only relatively recently begun to settle. As Bruce Bartlett, an historian by training, writes in this column for the Fiscal Times:

The demise of the conservative Southern Democrat is the primary reason for the rise of political polarization. The era in which they held significant power in the Democratic Party was a historical anomaly; polarization is actually the norm, to which we are now returning. The good old days of bipartisanship are as dead as the conservative Southern Democrat.

I wouldn't be surprised to discover that the reversion to polarisation helped along policies that turned out to increase income inequality. At any rate, it's important not to get the direction of causality backwards.

According to Mr Krugman, "the Republican Party is dominated by [economic] doctrines formerly on the political fringe", and they are so dominated because "billionaires have always loved the doctrines in question, which offer a rationale for policies that serve their interests." Yet Mr Krugman's main example of a formerly fringe doctrine is the gold standard. But are there really Republican congresspersons other than Ron Paul who are big supporters of hard money? Are there Republican appointees to our independent central bank who are gold bugs? I hope Mr Krugman has room on his mantle for a Pulitzer, because this is some scoop.

I wouldn't deny that Ron Paul's monetary theories have had a big influence on grassroots conservatives. But Ron Paul is no billionaire puppet. Indeed, his faction of the libertarian movement is virulently antagonistic to the sell-out Koch brothers. Ron Paul is an ideologue in the thrall of certain dead Austrian economists, not rich people. And many decent, intelligent folks find intuitive and persuasive the idea that money needs a physical basis with independent economic value in order to serve as a reliable store of value, and that government inflation of the money supply is a form of un-legislated taxation. Even if they are mistaken, these aren't idiotic ideas. And even if they are, they remain pretty "fringe". I'm having a hard time thinking of billionaires, apart from the Koch brothers, who support the gold standard. Indeed, it's terribly hard to see how the gold standard is in the interests of American billionaires. Is it something Mark Zuckerberg thinks is in his interests? Does Mr Krugman think it's in Mark Zuckerberg's interests? Most non-fringe economists think a gold standard would be economically ruinous. How is that good for the rich?

A few weeks ago, Steve Randy Waldman, who does not have a Nobel prize, did rather better:

The ailing developed economies are plutocratic democracies. “The people” do have power, but influence is weighted in a manner correlated with wealth. The median influencer in these economies is not a billionaire, but an older citizen of some affluence who has mostly endowed her own future consumption. She would like to be richer, of course. But she is content with her present wealth, and is panicked by the prospect of becoming poorer. For such a person, the depression status quo is unfortunate but tolerable. The risks associated with expansionary policy, on the other hand, are absolutely terrifying.

Kevin Drum couldn't see how our risk-averse gerontocrats influence the Fed. Scott Sumner pushed back against Mr Waldman's monocausal argument with his own ten-factor alternative. Karl Smith piped up with a hypothesis about the psychology of policymakers. Mr Waldman smartly defended his thesis. If Mr Krugman's explanation for America's less-than-perfect economic policy has any virtues, it's that he seems to take seriously Mr North's idea that our beliefs constitute and support the institutions and policies that promote economic growth. Sadly, his rather arbitrary billionaire-centric model of the diffusion of economic ideas leaves so much to be desired that his column in the New York Times compares rather poorly to the intra-blog debate launched by Mr Waldman.

Maybe a discussion of the US Senate would be appropriate. With its arcane rules and lopsided relationship of population to representation, representatives of less than 20% of the population can effectively block the (represented) will of the other 80% percent via a threatened filibuster.

The lopsidedness largely favors conservative states with small populations. In the past, this obstructionist ability was applied sparingly.

Democratic parties have been getting more fragmented and partisan all over the world, not just in the US. Attributing it to parochial US events seems slightly insular. I rather blame the increasing segmentation of media audiences, where newer technologies permit dividing the public into smaller and smaller chunks who consume media more and more precisely aligned to their own political preferences, and are then increasingly whipped up into frenzies in order to increase engagement and retain the eyeballs. It becomes easier and easier to wrap oneself up in a blanket of comforting obviously-correct like-minded thoughts, and decry the outgroup as fools at best, malicious at worst.

What's funny about this post is that it would seem to suggest political scientists, like myself, are any better at explaining the policy outcomes of politics as economists are. In reality, the only thing my brethren and I are good at explaining are how our models of voting behavior are able to magically predict past elections.

'This is just silly. "Money buys power" is in the same neighborhood as "Jews run the media" both in terms of causal specificity and explanatory power.' --> on par with 'taxing the wealthy is like the holocaust all over again'. Saying it is in the neighborhood is the author's opinion, nothing more.

'If it's actually possible for a tiny minority to effectively buy the allegiance of one of the two major parties, and I doubt it is, then it was possible well before the top 1% began to pull away from the rest of the income distribution. It's not as though extremely rich Americans in 1970 didn't have the wherewithal to effectively curry political favor.' --> Obviously the rich have always curried a lot of 'political favor'. Try explaining things such as the carried interest loophole without acknowledging that the rich have a lot more influence.

In any case, the super-rich are not of one mind politically. Warren Buffett and the brothers Koch don't exactly see eye to eye.
--> Does not change the fact that the Koch brothers spent considerable time and money influencing politics. If you steal 10 cars and I steal none, we still have a crime problem.

I don't see how the Economist or the general public for that matter benefits from this author throwing out these crappy articles thrashing respected public figures and asserting they have no right to their opinion. What gives you the right? And for someone who claims seniority (you imply you know better because you studied this stuff), I cannot disagree with you more.

I just discovered what this blog post is all about: Payback by the angry apostle W.W.! Here is Krugman in the New York Times yesterday:

It was actually kind of funny to see the apostles of orthodoxy trying to portray the cautious, mild-mannered François Hollande as a figure of menace. He is “rather dangerous,” declared The Economist, which observed that he “genuinely believes in the need to create a fairer society.” Quelle horreur!

Okay, Krugman is a little unfair there, but that is funny enough to excuse him. Oh well, the hero worshipping by R.A. hasn't spared The Economist from the wrath.

If the reason for the US polarisation is regression to the mean following the disappearance of conservative Democrats from the South, then why is it the Republican party who has shifted so far to the extremes? I wouldn't say the likes of Clinton or Obama have overseen a leftward shift in Democratic policy. But nor do I buy into Krugman's explanation that it's all because the American right is so much more crazy than the left. It's not that the (relatively) extreme left doesn't exist. I'm not talking Communists, but, rather, the average denizen of the Occupy movement, or partisan trade unionists. What's really happened is that the extreme right has become much more influential. Moderate Democrats are generally assured of the votes of these leftists, whereas a moderate Republican has to fear losing a primary to an extreme conservative backed by the organisation of the Tea Party. This might go some way to explaining increased partisanship and the increasing extremism of the Republican party.

Let's try a little thought experiment. Set the wayback machine to 1867. People with wounds are operated on in hospitals, where these wounds often become infected, sometimes leading to gangrene. The orthodox reason for this is "bad air", and the hospital wards are aired out every day to combat this.

Some doctor in Glasgow says that infection has nothing to do with bad air, and he can reduce the incidence of gangrene in patients by dousing the wound, the instruments and the dressings with carbolic acid. The practitioners in the profession can argue about this for years, or they can set up an experiment.

There is already a large control group. Take a set of patients, having known age, ailment and general health characteristics, and use carbolic acid in their treatment as well as airing out the ward every day (wouldn't want to do anything unethical here). Is there a statistically significant difference in outcomes?

The key difference between this experiment and experiments in economics is the ability control for all the other variables. If you could set up a control with a matched country that did not implement the policy recommendation, hold all other variables constant and observe the results, then you would be able to scientifically support the claim of a "perfect policy."

Microeconomics can at least approach this goal sometimes, if you can observe populations, avoid Hawthorne effects and obtain a favorable split such that population subsets making various choices are of sufficient sample size.

Macroeconomics has a much harder time. Nations are systems, shot through with feedback loops. It is a classroom fantasy to be able to isolate a causal relationship between even ten variables and an outcome. The propopents of any policy are always ready to assimilate all favorable results, which ascribing unfavorable results to other causes.

So it will be very difficult to demonstrate that "perfect policy" is in fact perfect, even deliberately excluding moral positions, entrenched interests and whose ox is being gored.

The dialogue is becoming increasingly shrill because sh*t is going to hell in a hand basket. That's why.

On this current path, the line goes up to deficits without end, until presumably we default. That's everybody's SS or Medicare or everything right there. It's hard to have a rational debate, stuck in the passenger's seat, while the guy in charge is driving faster and faster towards the cliff.

As for objecting to loose money, that's not only non-idiotic, that's the darn Taylor rule which we were supposed to be following. The Fed kept interest rates absurdly low from the nineties on, and the put was of course popular as long as you could pretend that it didn't have costs. The left wants loose money, and the right was the President in the aughts so he wanted loose money, and so everybody was just swell with this unbalanced policy. It's good that the other side of the debate is finally getting actually picked up.

The toy worlds of economic models—even the most sophisticated—rarely account for politics, and almost never account for ideology. Consequently, most economists have nothing especially useful to say about the failure of governments to implement the best blackboard solution.

This is essentially a special case of the "rational actor" assumption in economics. As with any modeling assumption, it makes it easier to build the model. The test of a model (any model, in any field), however, is whether the assumptions it uses are close enough to accurate to make the model's predictions accurate. And if so, under which conditions, precisely, is it applicable?

What we see at the moment is ideology on economic matters tied rather tightly to ideology on matters totally unrelated to economics. And it is those other matters which appear to drive electoral voting patterns -- and thus Congressional voting patterns. Which means that the "rational actor" assumption needs to be replaced when modeling behavior at the Congressional level. That won't be easy (that's why the assumption was made in the first place), but it needs to be done. Eventually, someone will get a Nobel for figuring out how to do it effectively.

IMO the reason politics has become the way it is has to do with the fact that neither party actually stands for anything. Either of them will adopt any policy of any kind if it thinks it will be a net vote winner. It's purely a struggle for power for the sake of having it, without having any particular agenda to pursue once they get it - except to do what they are told by those who bankroll them - and that happens to be Wall Street for both parties.

Both parties have to try and hit the dead-center of public opinion, so there can't be any actual substantive policy differences to distinguish them. Which means candidates' personalities are the most fruitful avenue for attack. Nothing distinguishes one from the other except who he's been sleeping with and things like that.

But remember - pols only do this because it works. If voters were worthy of better pols they'd have them.

No, the problem is that, when someone suddenly introduces a new thought that seems in anyway socialist, it is ridiculed and their work called into question.

Mr. Krugman understands his work and the matter at hand. Income inequality is a virulent problem created and purposed by the rich elite. Any legislation tha tis introduced that might curb the earnings of this elite is in danger of veto.I rather want Mr. Krugman's harsh but straight forward outlook, than that of an individual that creates problems an loses themselves in it (Dr. Jekyll)

Pick any actual decision made in Congress since 1980 and show that money didn't buy power over the outcome, and that the outcome didn't put more money into the hands of the 1%. Forget models, just cite evidence that can be substantiated as factual.
You can omit legislation naming a post office if you choose although if you look into current proposals to de-fund the post office that would be ok.
If you move on to campaign finance and the methods and costs of campaigns, that would also confirm the thesis.
You can also extend the comments to state politics and just about any policy area. (No empirical generalization is without exceptions.)

Essentially, Mr. Krugman isn't wrong; America's plutocratic system is henious and out of hand. The increase in income inequality is due to the amount of wealth that is focused and isolated on the top. You might hate Mr., Krugman and his liberal approach to matters, and you might also hate the fact that he has a nobel pri, but he speaks thee truth - just in a manner that might make you cry. Mr. Krugman's thesis is later explained by Mr. Waldman. Waldman says that this rich elite fear poverty or losing money. But Mr. Krugman explains as it should be... in 2009, I wrote about Americas change from a democracy to a plutocracy, and that stays true to this day. The poor have no say, because their words and vocies have lost its bargaining power. The rich (.01% to 1%) have become the people in which the goverment derives its power. organization such as ALEC is proof of the power of the rich elite. Don't shoot down Mr. Krugman because he speaks the truth, but instead open your eyes to see the sad but definite truth. "The power of the people is dwindling"